With a little help from our friends

Though declining in number, co-ops find new ways to help farmers and rural communities

The coffee pot is always on at the Nassau Farmers Elevator. Every day
a handful of farmers sit in the lobby, sip java and solve the world's
problems, now that the local coffee shop is gone.

"We appreciate that," said Roger Longhenry, manager of
the Nassau, Minn., cooperative. "We are a local co-op and we're
here to serve our patrons."

In an agricultural marketplace that has become much more complex
during the past 10 years, the future independence of the 1,200-member
cooperative is uncertain. There are no plans to merge or be acquired,
but members know that the trend could affect them. More small farmer
cooperatives than big ones are scattered across rural America, but
it's the big ones that do most of the business.

After more than half a decade of a down market behind them and
little hope of a quick recovery, farmers are doing all they can
to get good prices when they buy and squeeze out more profits as
they sell. Because most farmers do their business with cooperatives,
change in the way co-ops do business seems inevitable.

"There's a real need for restructuring of these cooperatives,"
said Bob Cropp, director of the University of Wisconsin Center for
Cooperatives in Madison. In this era of globalization and technology,
farmers need more sophisticated services and support, he said. To
some extent, that is happening already.

Maybe more intriguing than consolidation is a slow-growing, higher-risk,
higher-reward trend of farmer co-ops moving up the value-food chain
by processing crops and livestock and capturing more of the consumer's
dollar.

A flexible business model

The co-op model has been used in many industries, including insurance,
telephone, electric, health care and transportation, not to mention
for local businesses and organizations like grocery stores, child
care, credit unions, housing, and funeral and memorial societies.
But it has proved particularly useful for farmers, who despite declining
numbers still constitute a widely dispersed and decentralized industry.

District states have a long history of cooperative businesses that
have played important roles in the region's economy, especially
in rural areas. Farmerswho are notoriously independentfound
they had more buying and selling power when they banded together
instead of doing business individually with the large companies
that bought and sold seed, feed, crops and livestock. And if the
co-op made money, farmers shared in the financial success.

In the eyes of the general public, co-ops often don't command the
same business stature as corporations, but they're businesses all
the same. Cooperatives are different from corporations because members
own co-ops, and the primary purpose is to provide service at the
lowest cost rather than generate profits. Profits are returned as
"patronage refunds" on the basis of how much each member
uses the co-op. In general, income tax is paid by members on their
shares of the profits while in a corporation both the business entity
and the shareholders are usually taxed. Also, each co-op member
has one vote while corporate shareholders usually have as many votes
as they have shares of common stock.

Source: U.S. Department of Agriculture

Nationwide, the number of co-ops and co-op memberships has fallen
dramatically in the past 50 years. In 1950-51, 10,064 cooperatives
dotted the United States with more than 7 million members. In 2000,
the U.S. Department of Agriculture (USDA) reported 3,345 co-ops
with slightly more than 3 million members. Since 1990 the number
of co-ops has dropped by 28 percent and membership by 25 percent.
At the same time, however, both co-op sales and profits surged from
1990 to 1997, although they have since slipped due to low commodity
prices, according to the USDA.

Cooperatives are different from corporations because members
own co-ops, and the primary purpose is to provide service at the
lowest cost rather than generate profits. Profits are returned as
"patronage refunds" on the basis of how much each member
uses the co-op.

The declining number of agricultural co-ops closely parallels the
dwindling number of farms, said Randall Torgerson, deputy administrator
for cooperative services at the USDA in Washington, D.C. It also
reflects restructuring among cooperatives. Torgerson noted that
giant co-ops such as Ocean Spray, Sunkist, Land O'Lakes and CHS
Cooperatives (formerly Cenex and Harvest States) have become multibillion
dollar companies by buying and merging with other co-ops.

Cooperatives are common throughout the world and are especially
widespread in Scandinavia. Their popularity in the district undoubtedly
reflects the ethnic heritage of many of its residents. Minnesota
has more cooperatives than any state and in 1999 led the nation
in business volume, while Wisconsin had the country's second-highest
membership and was second in volume, according to USDA figures.

The co-op movement in the United States began in the early 1800s.
Farmers banded together to gain more control over prices they received,
forming marketing cooperatives. In purchasing cooperatives they
pooled their orders for feed, seed and other goods so they could
pay lower prices. The National Grange, a farmers' organization founded
in 1867, promoted cooperative businesses in its heyday, and federal
laws enacted in the 1920s established the right for co-ops to exist
and gave them government support through the USDA. One special advantage
given to co-ops is the 1922 federal Capper-Volstead Act, which allows
farmers to agree on the prices they will accept for their products,
giving them limited exemption from antitrust laws.

Call it a legal kickback

Much has changed at the Nassau Farmers Elevator Co. since it was
founded in 1899, but it's still the center of the community and
it's fairly typical of a traditional co-op. To join, all a farmer
has to do is to start buying there. The more money the customer
spends, the larger the portion of the co-op's net worth he or she
acquires.

Thirty percent of the profit on a member's purchases is returned
in cash within the year; 70 percent is retained for things like
expansions and returned to members later as more money is added
to the coffers from additional profitsa revolving fund of
sorts. Among the purchases members can make are gasoline, diesel
fuel, tires, batteries, feed, fertilizer and chemicals. It's one
of two major businesses in the town of 80 residents just east of
the South Dakota border. The other business is an implement dealer.

Competitive prices for both buying and selling keep people coming
to the co-op, said farmer Robert Wittnebel, but it goes beyond that.
"Among the reasons people do business with the local co-op
is convenience, loyalty and trying to keep the small community alive,"
said Wittnebel, the third of four generations of his family to belong.

A quarter-century ago the cooperative had an additional 300 members,
Longhenry said. Most were lost with the decline of family farms.
But the co-op's volume of business has increased by 30 percent over
the past decade despite fewer members, he said. In 2000 it took
in 2.2 million bushels of corn and 1.2 million bushels of soybeans
as well as other grains. Gross sales were $14 million and $150,723
in profits were returned to members. "We've got some members
getting $4,000 checks and some get $5 checks," Longhenry said.

Choice of a new generation

In many parts of the district, farmers have gone beyond the traditional
parameters of cooperatives in an attempt to make their commodities into
consumer productsbut they're also taking a gamble by investing thousands
of dollars in a start-up business that could fail.

Source: U.S. Department of Agriculture

The idea is that individual farmers can increase their net income
by realizing profits beyond those normally generated on the farm
if they own and control businesses that add value to what they produce.
These nontraditional cooperatives, often labeled "new generation"
or "value-added" co-ops, are growing in number and are
being watched with interest by agriculture industry experts.

Value-added co-ops usually restrict membership in an attempt to
control the supply of their specialized products. According to the
law of supply and demand, if consumers want the product, the limited
supply should keep prices up.

Today, these co-ops in the district and elsewhere are making gasoline
additive ethanol from members' corn, pasta from members' wheat and
meal from members' soybeans, just to name a few. Torgerson estimated
that 100 to 140 of the nation's 3,345 co-ops fit the new generation
description. Bill Nelson, director of the Burdick Center for Cooperatives
at North Dakota State University, said his educated guess is that
Minnesota has 20 value-added co-ops, 13 of which are ethanol producers.
Montana, he estimated, has two; North Dakota, 12; South Dakota,
eight to 10, including three to four ethanol producers; while Wisconsin
has "maybe one."

A growing number of farmersmany of them younger than the
average age of 50-somethingare expressing interest in value-added
cooperatives. State law changes as well as state and federal government
subsidies (especially for ethanol plants) in recent years have helped
encourage their development.

The concept isn't new. Dairy cooperatives such as American Milk
Producers Inc., Foremost Farms USA, Dairy Farmers of America and
Land O'Lakes have added value to milk and cream for decades, making
them into butter, cheese, powdered milk and other products. And
many co-ops add value to farmers' production in limited ways such
as cooperative elevators, which often do some milling. But the foray
deeper into that realm began around the late 1980s and continues.

Value-added farm co-ops also have tax advantages over corporations
doing similar food processing, because co-op profits are taxed on
income only once (on each member's share of the earnings) rather
than twice as a corporation is (at the corporate level and at the
individual shareholder level).

Federal corporate income tax rates range from 15 percent to 39
percent. Since the co-op doesn't have to pay that, the absence of
the tax "can be a significant advantage," Nelson said.
The rationale for taxing only at the individual level is that "these
co-ops are really considered to be an extension of the individual
members' businesses," Nelson said.

Consumers, though, see little retail price advantage, Nelson said.
It is diluted by small quantities purchased and other costs, including
packaging. "By the time you get this to the consumer, it's
probably a fraction of a penny," he said.

Show me the money

About a decade ago, Paul Casper, who farms 4,500 acres of soybeans,
corn and wheat in Lake Preston, S.D., wanted to find a way to get
more money for his beans and he had an idea. "If you look at
who makes the money, it's the people who prepare the food for the
customer," Casper said.

After two years of meetings and investments by 2,100 farmers averaging
$10,000 apiece$21 millionthe South Dakota Soybean Processors
cooperative began operating the state's first soybean processing
plant in Volga in 1996. Previously, a large portion of the soybeans
grown in South Dakota were taken to other states for processing
into soy meal and returned to the state for livestock feed.

Today, the co-op manufactures soy meal and oil for customers as
far away as Australia and China and is considering expanding its
product line to include a soy protein additive for human consumption.
The regional price of beans has risen about 25 cents per bushel,
the town has 65 new full-time jobs, the plant is processing as many
as 80,000 bushels per day, and the co-op made a record $9.5 million
profit in fiscal 2001 on sales of $144 million. The operation has
been profitable from the first year, Casper said, and the co-op
has paid $11 million in cash dividends to members, or an average
of more than $5,000 apiece. That is money that would otherwise have
been earned by companies outside South Dakota, and farmers who grew
the beans would have seen little of it.

The biggest difference between value-added and traditional co-ops
is that value-added requires members to also be investors, which
increases both the risks and the potential rewards.

The South Dakota Soybean Processors co-op got started in a way
similar to other new generation or value-added cooperatives. Farmers
who wanted to become members paid a $200 membership fee and for
that each got one vote. Each was also required to buy a minimum
of 2,500 shares at $2 per sharea $5,000 investment, but Casper
said the members on average ponied up twice that amount. Each share
gives them the right and obligation to provide a bushel of soybeans
to the plant each year. Farmers are paid market price for their
product upon deliveryand sometimes more. Membership was closed
because the co-op would have been unable to handle any more beans
than members were obligated to provide.

Quality counts

Many value-added co-ops, including South Dakota Soybean Processors,
have strict quality standards. "It ensures farmers that they
will have a market for their crop and it assures the processing
plant it will have product," said Robert King, professor of
applied economics at the University of Minnesota. The high quality
also ensures a way to differentiate the product in the marketplace,
adding further value to it, which means the ability to command higher
prices. If the standards are not met or the member can't provide
the beans for some other reason, he or she is responsible for buying
them elsewhere and delivering them to the plant.

Value-added farm co-ops also have tax advantages over corporations
doing similar food processing, because co-op profits are taxed on
income only once (on each member's share of the earnings) rather
than twice as a corporation is (at the corporate level and at the
individual shareholder level).

But finding the money to back the new businesses is difficult at
best because only farmers can invest in such co-ops and many are
already struggling financially. One way to widen the circle of investors
has been for value-added co-ops to own controlling interest in limited
liability companies that produce their products, and allowing nonfarmers
to invest in the LLC.

Common stumbling blocks for new generation co-ops include lack
of understanding of the competition, management and technology problems,
lack of capitalization and vulnerability to changes in the marketplace
because they have only one product, Nelson said.

The success rate has not been tracked, but Nelson estimated that
about one-third of the value-added co-ops fail, one-third are in
the "red zone" with major problems and one-third are doing
well.

Dakota Lamb Growers Cooperative, for example, was conducting a
second equity drive early this year to raise working capital and
pay for lambs it purchased last year from members. The co-op sells
natural, lean, grain-fed lamb to high-end grocery stores and specialty
markets and contracts with a Jamestown, SD, meat processing company
to prepare the meat for sale. Demand was slow after the co-op started
up in March 2001. But by January of this year, "we have way
more market than we have lambs," CEO David Merwin said. The
goal is to sell 20,000 shares (meaning 20,000 more lambs to be processed)
at $30 per share. "We're asking them (new shareholders) to
supply the market we've already established," Merwin said.

Co-op capital

The economic benefits of co-ops extend beyond farmers. Like other
businesses, co-ops pay property taxes and provide jobs, which strengthens
communities. Furthermore, they're less likely to pull up stakes
and relocate than other businesses because they are owned by hundreds
or perhaps thousands of local members.

"Co-ops have made a big difference
in the economy of our community," said Quent Rath, mayor of
Renville, Minn., population 1,300. The southern Minnesota city,
surrounded by rich farmland, is home to eight co-op headquarters
while a ninth sits just outside the city limits.

Renville County is the state's top corn, soybean and green pea
producer. It's fifth in hogs and sixth in sugar beets. "These
are the products that drive the co-ops," the mayor said.

Ultimately, consolidation could yield just 60 to 70 farms in the
entire county, which Rath believes is not enough to support the
town's infrastructure and businesses. Instead, co-ops are taking
on that role.

About half of Renville's 508 households have someone who's working
at a cooperative and co-op payrolls run into the tens of millions.
The city isn't currently reaping the full benefit of co-op property
taxes, having created tax increment finance districts that reinvest
taxes on improvements to the property in public projects in those
districts. However, when the districts expire in three to five years
"these eight co-ops probably will pay as much or more than
all citizens and businesses will pay," Rath said.